The Amazon Effect: Fixed Costs Fix Cost
Each year, Jeff Bezos, the mastermind and business innovator behind Amazon shares a letter with his shareholders. These letters, dating back to 1997, serve as a goldmine of independent and innovative thinking for today’s business leaders. Our series, The Amazon Effect, focuses around these letters – and today we’re discussing how keeping your costs low, means keeping your costs fixed.
In his 2002 letter, Bezos talks about how he has managed to do something seemingly contradictory with Amazon. His company consistently is able to provide better services at lower prices than competition. Seems like step one to making money in retail, right? Do a good job for less. But in practice, this is an extremely feat to pull off. Let’s dive a little further.
Let’s say you run a pizza parlor. To provide excellent service, you’ll need a well-trained staff, paid well enough and treated well enough to have a vested stake in the success of the business. You’ll also need enough of those people to operate the parlor well at all times. Your store will need to be well lit, cleaned and with new decor.
Your point of sale system will need to be up to date and able to accept the latest and easiest forms of payment. Maybe you’ll need an automated phone system, or an app so that people can order pizza quicker.
All of these things cost money to execute and more money to maintain. If excellent service is your main goal is business, your profits will go toward improving and maintaining service which, inevitably will come at the cost of something else - typically quality.
Think about national pizza chains and compare it to the pizza you might eat at the finest pizza restaurant in New York or Chicago. The national pizza chains put tons of money into service and reaching as many people as possible to make it easy to get their pizzas.
But the quality of the pizza suffers.
Okay, now let’s rewind and go back to you having a pizza place. Let’s say your goal is to simply have the best pizza in town. You’ll need to invest in ingredients, in ovens and in chefs that can create the best possible pizzas. Where doesn’t money go toward then? Service.
This is not a new problem for business. For better service, most businesses simply raise prices. To reduce prices, they make sacrifices - most often employees or other areas that could impact service.
So how does Bezos solve this problem, allowing Amazon to consistently provide high level products and services for less? He builds on fixed costs.
Amazon’s service is based on customer reviews, recommendation algorithms, automated payment processes, and other technology/system based factors that come at a fixed cost but provide endless potential for ease of service for customers.
Instead of spending tons of training new people and hiring more people to provide good service, Bezos creates systems. Automated important processes allows him to save money and that allows him keep costs low: low prices and great service!
For your small business, we cannot stress enough how important it is to operate based on systems and not based on people. A person can call out sick, and a person can get overwhelmed as your business matures.
A system comes at a fixed cost and has far more growth potential.
This can allow you to keep costs reasonable for the consumer and for your business. Now when you hire, it won’t be simply to maintain service, it’ll be to improve it.
In our series, “The Amazon Effect” we’ll delve further into Bezos’ yearly letters to shareholders and how they can help you and your small business. Keep checking back for more.